SEC Tired of Its Own Paperwork?: Proposed Amendment Will Scale Back Disclosures for More Companies

But Internal Control Attestation Proposed to Remain

More than 700 public companies with $75 to $250 million of public float will soon join the ranks of “smaller reporting companies” if the SEC moves forward with a recent proposal. On July 1, 2016, the SEC published a proposed amendment to the definition of “smaller reporting company” that would dramatically increase the number of firms eligible for scaled disclosures in periodic public filings, including certain legal disclosures under Regulation S-K and accounting disclosures under Regulation S-X. The SEC’s Advisory Committee on Small and Emerging Companies took up the SEC’s proposed rule changes at its July 19, 2016 meeting.

Currently, SEC rules allow firms that are smaller reporting companies to scale their disclosures as a means of limiting their administrative burden of disclosure. Among these scaled disclosures, smaller reporting companies only have to disclose information pertaining to two years rather than three years for the summary executive officer compensation table, the management’s discussion and analysis of financial condition and results of operations (MD&A) comparison, and the annual financial statements. Smaller reporting companies also do not have to disclose certain information pertaining to executive compensation, including a compensation discussion and analysis, and quantitative and qualitative disclosures about market risk.

The current rules define a smaller reporting company as one that has a public float (i.e., the aggregate worldwide number of shares of a company’s voting and non-voting common equity securities held by non-affiliates multiplied by the last sales price (or the average of bid and asked price) of the common equity in the principal market for such equity) of less than $75 million as of the last day of the company’s second fiscal quarter of the prior year. The proposed rules would raise the ceiling from $75 million to $250 million. Alternatively, if a company has no public float, it would be allowed to make scaled disclosure if annual revenues are less than $100 million, up from the current limit of $50 million. The current rule also sets a different requirement for companies that have previously exceeded the qualifying thresholds but now seek to qualify as a smaller reporting company. Currently, those companies may qualify with a public float of less than $50 million, or $40 million annual revenues for companies without public float. The proposed amendments would raise those thresholds to $200 million and $80 million, respectively.

Although currently linked, the SEC has a separate concept of an “accelerated filer” that also uses a $75 million public float to determine whether a company is an accelerated filer. In addition, although currently one and the same, the definition of accelerated filer explicitly provides that smaller reporting companies are not accelerated filers. From the standpoint of the administrative burden of SEC disclosure, this is significant because companies that are not accelerated filers do not have to file attestation reports from their independent public accounting firms on management assessments of internal controls pursuant to Section 404(b) of the Sarbanes–Oxley Act of 2002.

The proposed amendments to the threshold for qualification as a smaller reporting company do not change the $75 million threshold in the “accelerated filer” definition and delete the carve-out from such definition for smaller reporting companies. As a result, a company qualifying as a smaller reporting company with $75 million of public float or more will still be subject to accelerated filer rules, including the internal control attestation requirement. However, the SEC in its proposal release has asked for comment whether the relief for scaled disclosure should be extended also to the internal control attestation. At the July 19, 2016 Advisory Committee meeting, at least one participant argued that the threshold for internal control attestation should also be increased as internal control attestation is a significant cost for companies and relative to the earnings of most smaller companies, even if those are considered to include companies with up to a public float of $250 million, is a burden that exceeds its benefits. Other commentators have taken issue with this position and assert that the importance of internal control attestation by companies with a public float of at least $75 million remains, and therefore, internal control attestation should be maintained.

The SEC intends these amendments to promote capital formation and reduce compliance costs for smaller companies. The SEC has stated that the amendments will accomplish this by expanding the number of registrants that are eligible for a less burdensome disclosure process.

It appears that in determining the thresholds, the SEC focused on the percentage of total registrants that should qualify as smaller reporting companies more than the dollar amount of the threshold itself. During deliberations, the SEC decided that adjusting the current thresholds for inflation would ineffectively promote its goals because relatively few companies would be impacted. Instead, the SEC selected the new $250 million of public float threshold in order to increase the percentage of registrants qualifying from the current 32 percent of reporting companies to 42 percent, which equals the percentage of public companies that qualified as smaller reporting companies when the designation was created in 2006.

From our perspective, we believe that the proposed change to the definition of smaller reporting companies will reduce the disclosure burden for qualifying companies in meaningful ways. We believe that it makes sense to restore the percentage of companies that would enjoy scaled disclosure back to where it was a decade ago. However, if the reduction of the economic burden of SEC disclosures upon smaller public companies is truly the SEC’s goal, and if the SEC is sensitive to the significantly higher percentage of public companies responsible for reporting requirements since their enactment, then we believe this relief should not just be limited to scaled disclosures, but also should be extended to internal control auditor attestations.

Parties interested in commenting upon the amendment should submit comments to the SEC by August 30, 2016.